Flash Boys

A Wall Street Revolt

By Michael Lewis

(W.W. Norton; 274 pages; $27.95)

Every reporter who's gone a few rounds with the powers that be on Wall Street recognizes the cue that they're on to something: The broker or bank executive or snarly in-house flack derides you as a flaming idiot for your ill-advised view of their very important work.

For his new book, "Flash Boys: A Wall Street Revolt," Michael Lewis has earned recognition in some Wall Street circles as the flaming idiot of the moment. The most likely explanation is that his polemic against the stock market abuses of high-frequency traders has struck an acutely touchy nerve.

"Flash Boys" deconstructs the byzantine world of Wall Street's high-frequency stock trading, the algorithm-driven transactions considered a boon to smooth and inexpensive markets by some, an exploitative labyrinth by others.

Remember that afternoon in May 2010 when the market plunged 1,000 points and bounced back more than 600 points by the close? The so-called Flash Crash was brought to you in part by the high-frequency traders who are the mischief-making subjects of Lewis' book.

Bradley Katsuyama wears the white hat in "Flash Boys." Born in Toronto, Katsuyama started out trading U.S. energy stocks at Royal Bank of Canada in his hometown before making his way to RBC's New York office, where he ultimately became head of Global Electronic Sales & Trading. Katsuyama was the antithesis of the Wall Street Guy, offended by the excesses of New York City and at home working at a firm whose culture was dubbed "RBC nice."

Something weird started happening on Katsuyama's stock-trading screens in 2006, just after RBC bought Carlin Financial, a U.S. electronic stock market trading firm. Up until then, when he saw another investor offering 10,000 shares of a stock he wanted to buy, he could simply push a button and buy the stock. Suddenly, though, Katsuyama would push that button, and all the offers would vanish.

The mystery compounded when, along with the trading troubles, RBC's bills from the stock exchanges began to swell. Only one thing had changed in the interim: the addition of the new electronic trading connection that put his orders on a complex trading fast-track.

Katsuyama began an education process to better understand what RBC had gotten into, hiring of a team of pros from the arcane world known as HFT to accelerate his learning curve. By trial and error, they figured it out.

Traders with connections even a millisecond faster than the competition would spot Katsuyama's bids before anyone else on one exchange, and then move to another exchange to buy it in time to unload it on him at a higher price. That sort of behavior is known as "front-running" in regulatory parlance, and is illegal when some people do it - say, the investor who's been tipped off that a research analyst will be hyping a stock. When HFTs do it, though, they're not breaking any laws.

The quest to gain those millisecond-long advantages can include extraordinary measures. Lewis' opening chapter describes the staggering effort of a company called Spread Networks, which employed 205 crews of eight men apiece to blast holes through mountains and tunnel under riverbeds between Chicago and northern New Jersey in 2009 and 2010. The purpose of the backbreaking venture: to lay 827 miles of fiber-optic cable that would send financial data from Chicago to New Jersey in 13 milliseconds.

For two lanes - one in each direction - on this new HFT superhighway, Wall Street banks paid $14 million apiece.

Along with hardware to foster faster trading, vendors pitched software to the high-frequency crowd. One mutual fund manager said a bank pitched him an algorithm that was akin to "a tiger that lurks in the woods and waits for the prey and then jumps on it." The "algos," as they're called, came with names befitting the darkest video game: Dark Attack, Dagger, Slicer, Guerrilla and Ambush.

At RBC, Katsuyama and his crew got to work on an HFT-busting program they called Thor that was designed to stymie the front-runners. They successfully sold Thor to trading customers for about a year, but in 2011 business fell off. Soon after, Katsuyama sat around a table with his team and suggested they take their campaign against abusive trading to the next level: "Let's just create our own stock exchange," he said. On Oct. 25, after resigning from RBC, they did exactly that, launching a stock exchange called IEX. The firm is "dedicated to institutionalizing fairness in the markets," according to its Web page.

Critics on Wall Street and in financial journalism have taken liberal shots at "Flash Boys." A popular blogger said the book's weaknesses were similar to those of the market: "It's just too fast."

With more time, Lewis could have broadened his story and explained the "real dangers" of HFT, the writer said beneath a headline "Michael Lewis's high-speed journalism." Seven days earlier, the same columnist had shared 900 words about the "flawed new book" after noting he'd read only half of it. Talk about being in a hurry.

Detractors also have said Lewis doesn't call stock exchanges to task for their role (he does), and that "Flash Boys" in any event comes on the heels of an important book on HFT by Wall Street Journal reporter Scott Patterson. (Lewis acknowledges in "Flash Boys" that Patterson's book is "an excellent history.") He's also been criticized for rousing prosecutors who might go after HFT front-runners. Start putting handcuffs on these guys and the public might mistakenly conclude that the markets are fair, the argument went. No joke.

Lewis sometimes overstates his case. When he talks about HFTs' impact on individual investors, he doesn't make a clear distinction between the harm to individuals whose mutual funds and pension funds are being traded, and the harm - if it exists at all - when a small investor is buying a stock on his own. And he doesn't do a good job when he introduces the story of a computer programmer who was arrested and imprisoned after copying computer code from Goldman before he left for a new position. The story is relevant to the narrative of "Flash Boys," but is dropped into the book as a stand-alone.

Still, when it's Michael Lewis doing the writing, previously incomprehensible topics become clear as day. That's dangerous stuff for financial types who fare best when their activities are dense and misunderstood, and perhaps a tad threatening to the rest of us in the writing trade, who wish we could be in Lewis' league.

Even Grandma can read "Flash Boys," understand it and be entertained by it. No wonder there's such a push to discredit Lewis' latest hit on Wall Street.

Susan Antilla has written for the New York Times, Bloomberg View and USA Today. She is author of "Tales From the Boom-Boom Room: The Landmark Legal Battles That Exposed Wall Street's Shocking Culture of Sexual Harassment." E-mail: books@sfchronicle.com